Sustainable development: Eco-taxes need thorough airing

By BRIAN FALLOW, Economics editor

When people cast about for ways of achieving sustainable development their attention soon turns to one of life's two certainties: taxes.

Advocates of ecological tax reform - in New Zealand that is mainly the Greens - put it forward not only as a means of achieving environmental goals but as good tax policy.

We need prices that reveal the environmental cost of production, they say. Producers should have to pay all the costs of their activities and not pass them on to other people, including those in distant countries or future generations.

The tax policy strand of the argument is that eco-taxes, such as a tax on the carbon content of fossil fuels, provide a means of broadening the tax base, thereby taking the pressure off existing taxes.

Better, surely, to tax things you want less of, such as pollution and waste, than things you want more of, such as net incomes.

About two-thirds of the Government's tax revenue comes from taxing personal and corporate incomes.

But in a globalised world where capital and skilled labour are mobile there is relentless downward competitive pressure on personal and company tax rates.

It would seem to make sense, then, unless you also want state spending to shrink, to shift the mix of taxes in the direction of less direct taxation and more indirect taxation.

If you just ramp up the rate of GST you are likely to expand the underground, black economy. Taxes on physical, metered flows like fossil fuels, on the other hand, are much harder to dodge.

An energy tax intercepts the economy across a wide front, so it scores well on the broad base, low rate test.

Last year's tax review, chaired by Rob McLeod, examined the case for eco-taxes.

One of the principles the McLeod committee espoused is that tax should distort relative prices as little as possible. This would count against a carbon tax compared with, say, an increase in the broader-based GST.

But the review acknowledged that an exception to that general principle could be made where environmental harm is being done that is not reflected in prices.

That, of course, is the rationale of the Kyoto Protocol.

It provides a mechanism by which, over time, the worldwide environmental costs of fossil fuel use can be internalised, and reflected in the prices users pay. Otherwise, alternative sustainable technologies are unlikely to become commercially viable.

To the McLeod committee the general view that activities which harm the environment are to be curtailed, and that tax is the way to do it, smacks of paternalism, forcing the decisions of the many to conform to the opinions of a few.

But it concluded that a carbon tax would meet three necessary conditions for an appropriate eco-tax:

* The environmental damage associated with each unit of emissions is uniform (any COinf2 molecule does the same damage as any other).

* The volume of emissions is measurable (at least fuels provide a measurable proxy).

* The marginal damage imposed by emissions is measurable.

The last condition is required in order to estimate an appropriate rate of a carbon tax. It would be met if there was an international "carbon" market, trading the rationed rights to emit greenhouse gases, as envisaged by the Kyoto Protocol. In principle carbon would be traded at the marginal cost of reducing greenhouse gas emissions.

The Government intends to impose a carbon tax as part of a band of policies to give effect to the Kyoto Protocol.

The tax would not come into effect for at least five years and would be capped at a rate that would add no more than 6c a litre to petrol and 7c to diesel, and boost residential power bills about 9 per cent. All up, about $5 a week for a typical household.

It will be less if the international price of carbon is less than $25 a tonne of COinf2 equivalent, which it may well be with the absence of the United States from the market.

This is comparable to this year's 4c increase in the petrol excise to fund measures to relieve traffic congestion in Auckland.

Electricity prices will rise to reflect the fossil fuels used in thermal generation.

The Government estimates a rise of 9 per cent for residential consumers and 16 per cent for industrial. Commercial users would be somewhere in between.

But large emitters of greenhouse gases whose competitiveness would be jeopardised by a one-size-fits-all carbon tax - such as those in the aluminium, steel and wood pulp industries - will be able to negotiate their own agreements.

Exemptions for sensitive industries have been a common if not a universal feature of similar taxes in other countries.

Climate Change Minister Pete Hodgson says the energy intensive industries entering into negotiated greenhouse agreements with the Government would be required to move, over a negotiable time frame, to world's best practice in managing their greenhouse gas emissions in exchange for exemption from the carbon tax.

A common thread through submissions from business, both to McLeod and at various stages during the formation of greenhouse policy, has been the threat a carbon tax would pose to New Zealand's international competitiveness, especially given that many of our exports are energy intensive and about half the world (in terms of greenhouse emissions) is outside the Kyoto Protocol.

New Zealand Refining, for example, says its Marsden Pt refinery products compete with refined products from Singapore, which is outside the protocol. As well, other policies, such as reducing pollutants such as sulphur and benzene from its products by 2006, have a cost in extra COinf2 emissions.

It faces major capital expenditure to upgrade the refinery to produce cleaner fuels, and has wondered aloud whether it might not be cheaper to close it and supply New Zealand from Asian refineries instead.

Clearly that would do exactly nothing to reduce global concentrations of greenhouse gases, but would cost New Zealand jobs, taxes and widen the balance of payments deficit.

Consequently the refinery is likely to be one of the first industries to conclude a negotiated greenhouse agreement.

Waikato University researchers have pointed to another side of the international competitiveness argument, "namely the possibility that trading partners, particularly in Europe, might erect new barriers against our exports if they consider we are providing an 'environmental subsidy'. Having imposed environmental charges internally, they could argue in the WTO that they need to equalise costs at the border."

Another area in which global moves towards carbon taxes might make life difficult for New Zealand exporters is international freight costs. A long-standing but little known treaty called the Bunker Fuels Agreement exempts fuels used in international transport from taxation. At some point as the world adjusts to a carbon-constrained environment that agreement may come under pressure.

Already some European consumers are sensitive to the issue of "food miles" - the distance and associated greenhouse emissions involved in transporting produce to them.

At some point, the Greens argue, New Zealand will have to confront the fact that exporting heavy, low-value products long distances will be difficult in a carbon-constrained world. The sooner we start preparing for that the better.